State Tax Bulletins
June 21, 2019
Supreme Court Rules North Carolina Beneficiary Law Unconstitutional
The United States Supreme Court ruled in North Carolina Department of Revenue v. Kimberley Rice Kaestner 1992 Family Trust that North Carolina cannot tax all of the income of a trust merely because a beneficiary resided in North Carolina.
Joseph Lee Rice III formed a trust for the benefit of his children in his home State of New York and appointed a New York resident as the trustee. The trust agreement granted the trustee “absolute discretion” to distribute the trust’s assets to the beneficiaries.
North Carolina asserted that the Kimberley Rice Kaestner 1992 Family Trust (Trust) income was subject to taxation under a state law authorizing the State to tax any trust income that “is for the benefit of” a state resident. The State assessed a tax of more than $1.3 million for tax years 2005 through 2008. During that period, Kaestner had no right to, and did not receive, any distributions. Nor did the Trust have a physical presence, make any direct investments, or hold any real property in the State. The trustee sued the taxing authority in state court,arguing that the tax as applied to the Trust violates the Fourteenth Amendment’s Due Process Clause. The state courts agreed, holding that the Kaestners’ in-state residence was too tenuous a link between the State and the Trust to support the tax.
That case was appealed to the United States Supreme Court and in a unanimous opinion the Court ruled that the presence of in-state beneficiaries alone does not empower a State to tax trust income that has not been distributed to the beneficiaries where the beneficiaries have no right to demand that income and are uncertain to receive it.
May 13, 2019
Supreme Court Decides Franchise Tax Board v. Hyatt
On May 13, 2019 the United States Supreme Court ruled in Franchise Tax Board of California v. Hyatt that the Constitution does not permit a state to be sued by a private party in the courts of a different state without the consent of the state being sued. The court overturned its earlier precedent in Nevada v. Hall, 440 U. S. 410 (1979).
In the early 1990s, Gilbert Hyatt earned substantial income from a patent for a computer located on a single integrated circuit chip. For that patent, Hyatt received millions of dollars in royalties. Prior to receiving the patent, Hyatt had been a long-time resident of California. In 1991, Hyatt sold his house in California and rented an apartment in Nevada. He also registered to vote, obtained insurance, opened a bank account, and acquired a driver’s license in Nevada. When he filed his 1991 and 1992 California tax returns, he claimed Nevada as his primary place of residence.
The Franchise Tax Board ("FTB") suspected that Hyatt’s move to Nevada was a sham. In 1993, the FTB launched an audit to determine whether Hyatt underpaid his 1991 and 1992 state income taxes.
During this audit employees of the FTB traveled to Nevada to conduct interviews with Hyatt’s estranged family members. In addition FTB employees shared his personal information with business contacts. The FTB also sent more than 100 letters and demands for information to third parties.
The Board ultimately concluded that Hyatt had not moved to Nevada until April 1992 and that he owed California more than $10 million in back taxes, interest, and penalties. Hyatt appealed this audit to the Board of the FTB which upheld the audit after an 11-year administrative proceeding. Hyatt appealed that decision to the California Office of Tax Appeals where the matter is still pending.
In 1998, Hyatt sued the Board in Nevada state court for torts that allegedly occurred during the FTB audit. Hyatt sought damages for what he considered to be the FTB's abusive audit and investigation practices, including rifling through his private mail, combing through his garbage, and examining private activities at his place of worship. See Franchise Tax Board of California v. Hyatt, No. 14-1175, April 19, 2016 ("Hyatt II").
The Nevada Supreme Court previously held that the suit could proceed in Nevada. In Hyatt I the United States Supreme Court ruled that the Full Faith and Credit Clause of the United States Constitution did not prohibit Nevada from applying its own immunity law.
On remand, the Nevada Supreme Court declined to apply a cap on tort liability applicable to Nevada state agencies. This Court reversed, holding that the Full Faith and Credit Clause required Nevada courts to grant the Board the same immunity that Nevada agencies enjoy. The Court was equally divided, however, on whether to over-rule Nevada v. Hall, 440 U. S. 410, which held that the Constitution does not bar suits brought by an individual against a State in the courts of another State.
On remand, the Nevada Supreme Court instructed the trial court to enter damages in accordance with Nevada’s statutory cap. The Board sought certiorari a third time, raising only the question whether Nevada v. Hall should be overruled.
After addressing this matter for a third time, the United States Supreme Court ruled that Nevada v. Hall is overruled and that states retain their sovereign immunity from private suits brought in courts of other States.